Carter's (NYSE:CRI) Has More To Do To Multiply In Value Going Forward

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Looking at Carter's (NYSE:CRI), it does have a high ROCE right now, but lets see how returns are trending.

What is Return On Capital Employed (ROCE)?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Carter's:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.25 = US$481m ÷ (US$3.0b - US$1.0b) (Based on the trailing twelve months to April 2022).

Therefore, Carter's has an ROCE of 25%. That's a fantastic return and not only that, it outpaces the average of 15% earned by companies in a similar industry.

View our latest analysis for Carter's

Above you can see how the current ROCE for Carter's compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Carter's here for free.

The Trend Of ROCE

Over the past five years, Carter's' ROCE and capital employed have both remained mostly flat. This tells us the company isn't reinvesting in itself, so it's plausible that it's past the growth phase. So while the current operations are delivering respectable returns, unless capital employed increases we'd be hard-pressed to believe it's a multi-bagger going forward. With fewer investment opportunities, it makes sense that Carter's has been paying out a decent 32% of its earnings to shareholders. Unless businesses have highly compelling growth opportunities, they'll typically return some money to shareholders.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 35% of total assets, this reported ROCE would probably be less than25% because total capital employed would be higher.The 25% ROCE could be even lower if current liabilities weren't 35% of total assets, because the the formula would show a larger base of total capital employed. With that in mind, just be wary if this ratio increases in the future, because if it gets particularly high, this brings with it some new elements of risk.

The Bottom Line On Carter's' ROCE

In summary, Carter's isn't compounding its earnings but is generating decent returns on the same amount of capital employed. Unsurprisingly, the stock has only gained 2.4% over the last five years, which potentially indicates that investors are accounting for this going forward. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

If you want to continue researching Carter's, you might be interested to know about the 1 warning sign that our analysis has discovered.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.